Debt, Agency and Management Contracts in Reits: The External Advisor Puzzle

38 Pages Posted: 23 May 1998

See all articles by Dennis R. Capozza

Dennis R. Capozza

Ross School of Business, University of Michigan

Paul J. Seguin

University of Minnesota - Twin Cities - Carlson School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: April 1998

Abstract

This study investigates why externally advised Real Estate Investment Trusts (REITs) underperform their internally managed counterparts. Consistent with previous studies, we find that REITs managed by external advisors underperform internally managed ones by over 7% per year. Property-level cash flow yields are similar between the two managerial forms; but corporate-level expenses and especially interest expenses are responsible for lower levels of cash available to shareholders (FFO) in externally advised REITs. We document that the higher interest expenses are due to both higher levels of debt and to higher debt yields for externally advised REITs. We posit that compensating managers based on either assets under management or on property level cash flows creates incentives for managers to increase the asset base by issuing debt even if the interest costs are unfavorable.

JEL Classification: L1, G31, J33, L85

Suggested Citation

Capozza, Dennis R. and Seguin, Paul J., Debt, Agency and Management Contracts in Reits: The External Advisor Puzzle (April 1998). Available at SSRN: https://ssrn.com/abstract=91410 or http://dx.doi.org/10.2139/ssrn.91410

Dennis R. Capozza (Contact Author)

Ross School of Business, University of Michigan ( email )

701 Tappan Street
Ann Arbor, MI MI 48109
United States
734 995 7271 (Phone)
734 629-0635 (Fax)

Paul J. Seguin

University of Minnesota - Twin Cities - Carlson School of Management ( email )

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Minneapolis, MN 55455
United States
(612) 626-7861 (Phone)

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